Tax Planning

What is tax planning?

Tax PlanningTax planning usually involves strategies to minimize your income tax liability, for instance, by deferring income, maximizing deductions and deductible expenses for a particular year, and selecting tax-advantaged investments.

How does Buttonwood select investments from a tax perspective?

  • Investment tax planning focuses on the income tax implications of your investment selections. We understand how the different returns of the investments you are considering are taxed before finalizing your asset allocation decisions.

For example, corporate and most governmental bonds generate ordinary income taxed at your marginal (top) tax bracket. However, municipal bonds are generally tax exempt. The stocks of many large, established companies like banks and utilities pay regular dividends. Dividends are eligible for a reduced rate of tax from 2003-2008. Otherwise, dividends are taxed as ordinary income. Many growth companies pay little or no dividends as they generally reinvest their earnings. 

The timing of when an investor receives income is also an important consideration. Taxable bond income and dividends are taxed in the year you receive the income. The increase in the value of a stock (capital gain) is generally taxed when the stock is sold. Either way, timing should be taken into consideration if you decide to make a major shift in your investments that requires the sale of a lot of highly appreciated assets. It is also important to know that investments held for one year or less will generally not receive favorable tax treatment as their gains are taxed as ordinary income.

The investment strategies of investment companies should also be considered from a tax perspective. Some managers adopt a buy-and-hold strategy that minimizes the tax generated. Other managers regularly buy and sell investments, triggering taxes even if you do not make any changes to your investments.

Additionally, when you are saving for retirement, Buttonwood generally reviews options for investment in tax-deductible and tax-deferred vehicles such as a 401(k) through an employer and/or an IRA. There are also a number of tax deferred plans available for self employed individuals and small business.

The process of selecting investments should not be based solely on tax implications, as each investment choice may have its drawbacks. Generally, tax objectives select tax-favorable investments, however, these investments should be consistent with you return rate expectation and risk tolerance, overall goals, and time horizon.